| FRANKLIN COVEY CO Item 1A Risk Factors ITEM 1A Risk Factors Our business environment, current domestic and international economic conditions, and other specific risks may affect our future business decisions and financial performance |
| The matters discussed below may cause our future results to differ from past results or those described in forward-looking statements and could have a material adverse effect on our business, financial condition, liquidity, results of operations, and stock price, and should be considered in evaluating the Company |
| The following list of potential risks to the Company is not exhaustive |
| Additional business risks and uncertainties that are not presently known to us or that are not currently believed to be material may also harm our business operations and financial results |
| We operate in highly competitive industries The training and consulting industry and planner product industry are highly competitive with relatively easy entry |
| Competitors continually introduce new programs and products that may compete directly with our offerings |
| Larger and better capitalized competitors may have superior abilities to compete for clients and skilled professionals |
| In addition, one or more of our competitors may develop and implement training courses or methodologies that may adversely affect our ability to sell our methodologies to new clients |
| We have experienced net losses in recent fiscal years and we may not be able to maintain consistent profitability Although we reported net income in fiscal 2006, we have experienced significant net losses in recent years |
| While we continue to implement initiatives designed to increase our sales, reduce costs, and otherwise improve our operating results, and have recognized significant improvements in recent years, we cannot assure you that we will return to consistently profitable operations |
| During previous years we have faced numerous challenges that have affected our operating results |
| Specifically, we have experienced, and may continue to experience the following: · Declining traffic in our retail stores and consumer direct channel · Increased risk of excess and obsolete inventories · Operating expenses that, as a percentage of sales, have exceeded our desired business model · Costs associated with exiting unprofitable or underperforming retail stores In addition, if we are unable to maintain profitable operations we may be required to reestablish valuation allowances on our deferred tax assets if it becomes more likely than not that we would not be able to realize the benefits of those assets |
| The reestablishment of deferred tax assets would have an unfavorable impact upon our reported net income |
| If we do not achieve the appropriate cost structure our profitability could decrease Our future success and profitability depend in part on our ability to achieve the appropriate cost structure and be efficient in the highly competitive training, consulting, and planner industries |
| We are currently developing and implementing profit-enhancing initiatives and business models that impact our operations and are designed to improve our profitability |
| Our recent initiatives have included exiting non-core businesses, recapitalization of our preferred stock, asset sales, headcount reductions, and other internal initiatives designed to reduce our operating costs |
| If we do not achieve targeted business model cost levels and manage costs and processes to achieve additional efficiencies, our competitiveness and profitability could decrease |
| Our results of operations are materially affected by economic conditions, levels of business activity, and other changes experienced by our clients Uncertain economic conditions continue to affect many of our clients’ businesses and their budgets for training, consulting, and related products |
| Such economic conditions and budgeted spending are influenced by a wide range of factors that are beyond our control and that we have no comparative advantage in forecasting |
| These conditions include: · The overall demand for training, consulting, and our related products · Conditions and trends in the training and consulting industry · General economic and business conditions · General political developments, such as the war on terrorism, and their impacts upon our business both domestically and internationally · Natural or man-made disasters In addition, our business tends to lag behind economic cycles and, consequently, the benefits of any economic recovery may take longer for us to realize than other segments of the economy |
| Future deterioration of economic conditions, particularly in the United States, could increase these effects on our business |
| Our product sales may continue to decline and result in changes to our profitability In recent years, our product sales have declined |
| These product sales, which are primarily delivered through our retail stores, consumer direct channels (catalog call center, eCommerce and public seminar programs), wholesale, and government product channels, have historically been very profitable for us |
| However, due to recent sales declines, we have reevaluated our product business and have taken steps to restore its profitability |
| These initiatives have included hiring an additional sales force based at certain retail stores, retail store closures, active efforts to transition catalog customers to our eCommerce site, outsourcing our government products channel, and increasing our business through wholesale channels |
| However, these initiatives may also result in decreased gross margins on our product sales if lower-margin wholesale sales increase |
| If product sales continue to decline or gross margins decline, our product sales strategies may not be adequate to return our product delivery channels to past profitability levels |
| We may not be able to compensate for lower sales or unexpected cash outlays with cost reductions significant enough to generate positive net income Although we have initiated cost-cutting efforts that have included headcount reductions, retail store closures, consolidation of administrative office space, and changes in our advertising and marketing strategy, if we are not able to prevent further sales declines or achieve our growth objectives, we will need to further reduce our costs |
| An unintended consequence of additional cost reductions may be reduced sales |
| If we are not able to effectively reduce our costs and expenses commensurate with, or at the same pace as, any further deterioration in our sales, we may not be able to generate positive net income or cash flows from operations |
| Although we have experienced improved cash flows from operations during fiscal 2006 and 2005 compared to recent periods, an inability to maintain or continue to increase cash flows from operations may have an adverse impact upon our liquidity and ability to operate the business |
| For example, we may not be able to obtain additional financing or raise additional capital on terms that would be acceptable to us |
| Our global operations pose complex management, foreign currency, legal, tax, and economic risks, which we may not adequately address We have Company-owned offices in Australia, Brazil, Canada, Japan, Mexico, and the United Kingdom |
| We also have licensed operations in numerous other foreign countries |
| As a result of these foreign operations and their growing impact upon our results of operations, we are subject to a number of risks, including: · Restrictions on the movement of cash · Burdens of complying with a wide variety of national and local laws · The absence in some jurisdictions of effective laws to protect our intellectual property rights · Political instability · Currency exchange rate fluctuations · Longer payment cycles · Price controls or restrictions on exchange of foreign currencies While we are not currently aware of any of the foregoing conditions materially adversely affecting our operations, these conditions, which are outside of our control, could change at any time |
| We may experience foreign currency gains and losses Our sales outside of the United States totaled dlra56dtta7 million, or 20 percent of total sales, in fiscal 2006 |
| As our international operations continue to grow and become a larger component of our overall financial results, our revenues and operating results may be adversely affected when the dollar strengthens relative to other currencies and may be positively affected when the dollar weakens |
| In order to manage a portion of our foreign currency risk, we make limited use of foreign currency derivative contracts to hedge certain transactions and translation exposure |
| There can be no guarantee that our foreign currency risk management strategy will be effective in reducing the risks associated with foreign currency transactions and translation |
| Our profitability will suffer if we are not able to maintain our pricing and utilization rates and control our costs Our profit margin on training services is largely a function of the rates we are able to recover for our services and the utilization, or chargeability, of our trainers, client partners, and consultants |
| Accordingly, if we are unable to maintain sufficient pricing for our services or an appropriate utilization rate for our training professionals without corresponding cost reductions, our profit margin and overall profitability will suffer |
| The rates that we are able to recover for our services are affected by a number of factors, including: · Our clients’ perceptions of our ability to add value through our programs and products · Competition · General economic conditions · Introduction of new programs or services by us or our competitors · Our ability to accurately estimate, attain, and sustain engagement sales, margins, and cash flows over longer contract periods Our utilization rates are also affected by a number of factors, including: · Seasonal trends, primarily as a result of scheduled training · Our ability to forecast demand for our products and services and thereby maintain an appropriate headcount in our employee base · Our ability to manage attrition Our training program profitability is also a function of our ability to control costs and improve our efficiency in the delivery of our services |
| Our cost-cutting initiatives, which focus on reducing both fixed and variable costs, may not be sufficient to deal with downward pressure on pricing or utilization rates |
| As we introduce new programs and seek to increase the number of our training professionals, we may not be able to manage a significantly larger and more diverse workforce, control our costs, or improve our efficiency |
| Our new training programs and products may not be widely accepted in the marketplace In an effort to improve our sales performance, we have made significant investments in new training and consulting offerings |
| Additionally, we have invested in our existing programs in order to refresh these programs and keep them relevant in the marketplace, including certain programs based on the newly revised The 7 Habits of Highly Effective People curriculum |
| Although we believe that our intellectual property is highly regarded in the marketplace, the demand for these new programs and products is still emerging |
| If our clients’ demand for these new programs and products does not develop as we expect, or if our sales and marketing strategies for these programs are not effective, our financial results could be adversely impacted and we may need to significantly change our business strategy |
| If we are unable to attract, retain, and motivate high-quality employees, we will not be able to compete effectively and will not be able to grow our business Due to our reliance on customer satisfaction, our overall success and ability to grow are dependent, in part, on our ability to hire, retain, and motivate sufficient numbers of talented people with the necessary skills needed to serve clients and grow our business |
| The inability to attract qualified employees in sufficient numbers to meet particular demands or the loss of a significant number of our employees could have a serious adverse effect on us, including our ability to obtain and successfully complete important client engagements and thus maintain or increase our sales |
| We continue to offer a variable component of compensation, the payment of which is dependent upon our sales performance and profitability |
| We adjust our compensation levels and have adopted different methods of compensation in order to attract and retain appropriate numbers of employees with the necessary skills to serve our clients and grow our business |
| We may also use equity-based performance incentives as a component of our executives’ compensation, which may affect amounts of cash compensation |
| Variations in any of these areas of compensation may adversely impact our operating performance |
| Our strategy of outsourcing certain functions and operations may fail to reduce our costs for these services We have an outsourcing contract with Electronic Data Systems (EDS) to provide warehousing, distribution, information systems, and call center operations |
| Under terms of the outsourcing contract and its addendums, EDS operates the Company’s primary call center, provides warehousing and distribution services, and supports our various information systems |
| Due to the nature of outsourced operations, we are unable to exercise the same level of control over outsourced functions and the actions of EDS employees in outsourced roles as our own employees |
| Certain components of the outsourcing agreement contain minimum activity levels that we must meet or we will be required to pay penalty charges |
| If these activity levels are not achieved, we may not realize anticipated benefits from the EDS outsourcing agreement in these areas |
| Our outsourcing contracts with EDS contain early termination provisions that we may exercise under certain conditions |
| However, in order to exercise the early termination provisions, we would have to pay specified penalties to EDS depending upon the circumstances of the contract termination |
| We have significant intangible asset balances that may be impaired if cash flows from related activities decline At August 31, 2006 we had dlra79dtta5 million of intangible assets, which were primarily generated from the fiscal 1997 merger with the Covey Leadership Center |
| These intangible assets are evaluated for impairment based upon cash flows (definite-lived intangible assets) and estimated royalties from revenue streams (indefinite-lived intangible assets) |
| Although our current sales and cash flows are sufficient to support the carrying basis of these intangibles, if our sales and corresponding cash flows decline, we may be faced with significant asset impairment charges |
| Our future quarterly operating results are subject to factors that can cause fluctuations in our stock price Historically, our stock price has experienced significant volatility |
| We expect that our stock price may continue to experience volatility in the future due to a variety of potential factors that may include the following: · Fluctuations in our quarterly results of operations and cash flows · Variations between our actual financial results and market expectations · Changes in our key balances, such as cash and cash equivalents · Currency exchange rate fluctuations · Unexpected asset impairment charges · Lack of analyst coverage In addition, the stock market has experienced substantial price and volume fluctuations over the past several years that has had some impact upon our stock and other stock issues in the market |
| These factors, as well as general investor concerns regarding the credibility of corporate financial statements and the accounting profession, may have a material adverse effect upon our stock in the future |
| We may need additional capital in the future, and this capital may not be available to us on favorable terms We may need to raise additional funds through public or private debt offerings or equity financings in order to: · Develop new services, programs, or products · Take advantage of opportunities, including expansion of the business · Respond to competitive pressures We may be unable to obtain the necessary capital on terms or conditions that are favorable to us |
| We are the creditor for a management common stock loan program that may not be fully collectible We are the creditor for a loan program that provided the capital to allow certain management personnel the opportunity to purchase shares of our common stock |
| For further information regarding our management common stock loan program, refer to Note 9 to our consolidated financial statements as found in Item 8 of this Annual Report on Form 10-K The inability of the Company to collect all, or a portion, of these receivables could have an adverse impact upon our financial position and future cash flows compared to full collection of the loans |
| We may have exposure to additional tax liabilities As a multinational company, we are subject to income taxes as well as non-income based taxes, in both the United States and various foreign tax jurisdictions |
| Significant judgment is required in determining our worldwide provision for income taxes and other tax liabilities |
| In the normal course of a global business, there are many intercompany transactions and calculations where the ultimate tax determination is uncertain |
| As a result, we are regularly under audit by tax authorities |
| Although we believe that our tax estimates are reasonable, we cannot assure you that the final determination of tax audits will not be different from what is reflected in our historical income tax provisions and accruals |
| We are also subject to non-income taxes, such as payroll, sales, use, value-added, and property taxes in both the United States and various foreign jurisdictions |
| We are regularly under audit by tax authorities with respect to these non-income taxes and may have exposure to additional non-income tax liabilities |
| We may elect to use our cash to redeem shares of preferred stock or purchase shares of our common stock, which may decrease our ability to respond to adverse changes Our outstanding preferred stock bears a cumulative dividend equal to 10 percent per annum |
| Through August 31, 2006 we have redeemed dlra50dtta0 million of our outstanding preferred stock and during fiscal 2006 we amended the terms of our preferred stock recapitalization that was completed in fiscal 2005 to extend the period during which we can redeem preferred stock at an amount equal to the liquidation preference |
| We anticipate that we may redeem additional shares of preferred stock in the future to the extent that we believe sufficient cash is available to do so |
| Any such preferred stock redemptions will reduce our cash on hand and may reduce our ability to adequately respond to any future adverse changes in our business and operations, whether anticipated or unanticipated |
| A natural or man-made disaster could have a material adverse effect on the Company’s business We have products and training materials manufactured at numerous sites located around the world |
| However, a significant portion of our products are manufactured and shipped from facilities located in Salt Lake City, Utah |
| In the event that these facilities were severely damaged or destroyed as a result of a natural or man-made disaster, we would be forced to rely solely on third-party manufacturers |
| Such an event could have a material adverse impact on our business prospects, results of operations, and financial condition |